Losers Buy Beta

78 Pages Posted: 8 Mar 2018 Last revised: 4 Feb 2019

Date Written: February 1, 2019


Using trading data from Finland and the US, I empirically show that investors tend to buy riskier stocks following realized losses. The measure of risk that the investors seem to pay attention to is the market beta of a stock. This behavior of buying higher beta stocks after a realized loss is observed in institutional as well as individual investors, but is more pronounced among individual investors with lower expertise, who on an average buy a new stock with up to 15% higher beta than that of the old stock they were holding. For an agent with utility consistent with prospect theory, this behavior emerges as the optimal response to her problem of maximizing utility within a mental account. Furthermore, this behavior can aggregate up during market downturns and cause return predictability in high beta stocks. With this insight, I suggest a modification to the betting against beta trading strategy that can improve the Sharpe ratio more than twofold.

Keywords: investor behavior, risk preference, prospect theory

JEL Classification: D14, D91 G11, G12, G41

Suggested Citation

De, Koustav, Losers Buy Beta (February 1, 2019). 8th Miami Behavioral Finance Conference 2017, Available at SSRN: https://ssrn.com/abstract=3134118 or http://dx.doi.org/10.2139/ssrn.3134118

Koustav De (Contact Author)

University of Kentucky ( email )

Lexington, KY 40506
United States

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